House price bubble fears rejected by ESRI

The Economic and Social Research Institute has played down fears of a bubble in housing prices by arguing that the strong growth in prices was supported by fundamentals “at this point in time”.

In its latest quarterly economic commentary, the think tank expects house prices to continue to rise, due to supply remaining below “structural demand”.

While new mortgage lending is “rapidly increasing” – rising by 13.5 per cent in the first quarter of the year – the ESRI said it is not yet “unsustainable”.

However, it warned that “careful monitoring is required” with house prices expected to continue to increase, and rising average loan sizes.

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“This reinforces the importance of having [Central Bank] macroprudential limits in place,” Conor O’Toole said.

Research from the ESRI also indicates that house price increases are more significant at the lower end of the market. Having fallen by most in the bust, “cheaper” houses have now rebounded much more rapidly, suggesting a further burden on affordability for lower income cohorts.

GDP of 4.7%

The ESRI is forecasting gross domestic product growth of 4.7 per cent in 2018, down slightly on its first-quarter forecast of 4.8 per cent for the year, followed by 3.9 per cent growth in 2019, while its latest forecasts suggest that the decline in unemployment will stall slightly.

Earlier this year, the ESRI indicated that unemployment would fall to 5.4 per cent in 2018, but it has since revised it back to 5.6 per cent, while it has pulled back a level of 4.5 per cent for next year, to 5 per cent.

Consumption will increase by 2.4 per cent in 2018, and by 2.5 per cent in 2019, it said. These forecasts are based on the assumption that a European Economic Area-type of agreement will be established between the UK and the EU.

The ESRI also reiterated its call for a parallel set of accounts on the Irish economy, which would split data out into “real” activity undertaken by multinationals here, and “distortionary” activity, such as relocating intellectual property.

Tax cuts or NDP?

In addition, the ESRI considered whether the economic return for the Government would be greater by going ahead with its National Development Plan (NDP), or by cutting income taxes, with both incurring a similar cost.

“Both scenarios do result in increased economic activity, but there are variations,” said Kieran McQuinn, research professor at the ESRI.

While going ahead with the NDP would see increased potential output over the long run, cutting taxes would produce a larger increase in disposable income consumption.

However, on balance, the ESRI argues that a “well-targeted plan” could result in a more positive impact, thus limiting scope for tax cuts, with Mr McQuinn noting he would be “wary of stimulating the economy” through any cuts in the personal tax rate.

“The results suggest that, given the Government’s commitment to the National Development Plan in the medium-term, there is little or no scope for cutting the overall tax burden which would stimulate the economy further.”

Not only that, but Mr McQuinn said that as income taxes were not having “a restrictive impact on the labour market”, there was “no reason” for income tax cuts.If the Government does want to go ahead and cut taxes in October’s budget, such as decreasing the level of income at which people start paying the higher rate of tax, Mr McQuinn said that it should be done on a “neutral basis”, and offset by increasing taxes elsewhere.

EU risks

On external risks, the commentary highlighted uncertainties at a European level, whether through Brexit or in other member states such as Italy.

“Furthermore, any reduction in global economic activity, such as through a reduction in trade openness, would have a material impact on the domestic economy,” the ESRI said.

The Government will publish its summer economic statement on Tuesday, and is expected to assert that “excess” corporation tax paid in Ireland by multinationals should be allocated to the “rainy day fund”.

Mr McQuinn said the fund was a “good idea, there’s a lot to be said for it” and that the Government had the balance “broadly right”, in terms of whether it should pay down debt, invest or set money aside.